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deductions claimed. INDOPCO, Inc. v. Commissioner, 503 U.S. 79,
84 (1992).
1. Respondent's Reconstruction of Petitioner's Income
Pursuant to a reconstruction of petitioner's income for the
taxable year 1994, respondent determined that petitioner had
failed to report gross income in the amount of $4,578.
Taxpayers are required to maintain adequate records of
taxable income. Sec. 6001. Where a taxpayer fails to produce or
maintain adequate records from which actual income may be
ascertained, the Commissioner may reconstruct a taxpayer's income
by any method that clearly reflects income. Sec. 446(b); Goodmon
v. Commissioner, 761 F.2d 1522, 1524 (11th Cir. 1985); Petzoldt
v. Commissioner, 92 T.C. 661, 687, 693 (1989). The method of
reconstructing income need only be reasonable in light of all
surrounding circumstances. Petzoldt v. Commissioner, supra at
687.
The source and application of funds method has been regarded
as a reasonable method of determining income. United States v.
Johnson, 319 U.S. 503, 517-518 (1943); Meier v. Commissioner, 91
T.C. 273, 295-296 (1988). As explained by this Court in DeVenney
v. Commissioner, 85 T.C. 927, 930 (1985):
The * * * [source and application of funds] method
is based upon the assumption that the amount by which a
taxpayer's cash expenditures during a taxable period
exceed * * * [the taxpayer's] known sources of income
for that period is taxable income, unless the taxpayer
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